Will Powell's First FOMC Minutes Deter Market from Betting on Fed Rate Cut?

TL;DR

· In June, the FOMC unanimously voted to maintain interest rates, but a few participants believed there were reasons to consider a rate hike at that time.

· Kevin Warsh leans towards reducing forward guidance, causing the market to rely more on inflation data and officials' speeches for pricing.

· Related assets: US Dollar Index, Gold, US Treasuries, US Stock Growth Sector, Inflation trades.

The minutes of the June meeting released by the Federal Reserve on July 8 revealed that the FOMC, on June 17 with 12 votes in favor and 0 against, maintained the federal funds target rate range at 3.50%-3.75%. However, a few participants believed that there were reasons for a rate hike at that time.

For the market, the key point of this meeting was not just the unchanged interest rates. More importantly, it was the first FOMC minutes under the chairmanship of Kevin Warsh, which signaled a tendency to reduce forward guidance, streamline the policy statement, and avoid committing to an early rate path.

Fed Governor Christopher Waller took a different stance in his speech on July 6. He believed that forward guidance is still a valuable tool to accelerate policy transmission, but when used, it should be more like an art than a science. Excessive or rigid guidance would hinder decision-making.

The divergence between the two sides corresponds to a change in trading methods. In the past, the market used to look for the interest rate path in statements, dot plots, and officials' speeches. Now, this roadmap may become more obscure, with greater emphasis placed on inflation and employment data themselves.

Unanimous Interest Rate Maintenance, Hawkish Tail Risk Emerges

The surface results of the June meeting seemed calm. Interest rates unchanged, unanimous vote, and the statement mentioning robust economic expansion with inflation still above the 2% target. Simply based on this information, the market could easily interpret it as continuing to wait for a rate cut window.

The details in the minutes changed this perception. The Fed stated that all participants supported the decision to keep interest rates unchanged, but a few believed that considering inflation developments, there were reasons to raise the target rate range at the meeting.

It is important to distinguish between two matters here. The fact that a few participants saw a reason for a rate hike does not mean that the voters had already formed a rate-hiking camp or that action will be taken at the next meeting. However, it does indicate that under the unanimous decision to stand still, the Fed's internal tolerance for inflation has not continued to rise.

The New York Fed's June Consumer Expectations Survey also added to this pressure. The 1-year inflation expectation rose to 3.7%, the highest since September 2023. The 3-year inflation expectation rose to 3.3%, the highest since June 2022. The 5-year expectation remained at 3.0%.

The market implication of this set of data is not an immediate return to rate hikes but a more challenging early confirmation of a rate-cutting path. As long as short- to medium-term inflation expectations continue to rise, the Fed will find it difficult to provide the market with a stable dovish commitment.

Warsh and Waller Debate the Fed's Communication Style

Warsh's communication inclination is clear. The minutes show that most participants wish to no longer repeat the previous dovish-leaning statements. Most believe there are benefits to shortening the statement, and the Chair also plans to establish five independent working groups to review monetary policy-related issues.

This does not mean the Fed has formally abandoned forward guidance, but it indicates that at the Chair level, a more restrained communication approach is being pushed. By saying less in policy statements and making fewer future path commitments, the Fed can retain greater flexibility in the event of sudden changes in inflation or employment.

Waller's stance, on the other hand, is more about keeping tools in the toolbox. He acknowledges that if forward guidance is too strong or rigid, it can affect policy transmission and suggests that there are certain scenarios where it might be best not to use it. However, when used appropriately, it can still help the market understand policy intentions more quickly.

This disagreement is not just about wording. Warsh is more concerned that excessive transparency could bind policy to past commitments, while Waller is more concerned that reducing guidance altogether would weaken policy transmission. The former values flexibility, while the latter values predictability.

For asset prices, this change is quite tangible. The dot plot is a distribution of Fed officials' forecasts for future interest rates, which has previously been akin to an interest rate path map. If the Chair reduces roadmap-style communication, the market will have to infer the policy response function through more frequent price swings.

Increased Focus on Data, Potentially Larger Asset Reactions

In a less-guided environment, the first thing that changes in the market is not the long-term narrative but the magnitude of the reaction after each data release. Inflation, employment, energy prices, and official speeches will take on more pricing functions.

In the past, a piece of inflation data might have only adjusted the timing of a rate cut. Now, it could directly alter the market's assessment of "whether further rate hikes are needed." Rate-cut trades still exist, but their margin for error on individual data points will decrease.

The U.S. dollar is relatively supported in this environment. The reason is not that the minutes directly boost the dollar but that in the context of rising inflation expectations and the repricing of the tail risk of rate hikes, the time for U.S. interest rates to remain high may be prolonged. As long as the market is reluctant to firmly bet on rate cuts, the dollar is unlikely to lose its interest rate support.

Gold is facing a tug of war. Inflation concerns and geopolitical risks can support safe-haven demand, but real interest rates and a stronger dollar can increase holding costs. As the market reconsiders the possibility of rate hikes, gold's safe-haven logic remains intact, and price fluctuations may be amplified.

U.S. bonds and growth stocks are more sensitive to this dynamic. Short-term U.S. bonds directly reflect the policy path, while the long end needs to digest inflation expectations and fiscal supply pressures. High-valuation growth stocks are more sensitive to discount rates, and if high rates persist for longer, valuation adjustments will be limited.

Inflation Data Determines Rate Cut Trade-off

It is premature to interpret the June minutes as a shift in Fed's consensus towards rate hikes. A few participants see reasons for rate hikes but are still at the risk discussion stage. Warsh leans towards reducing guidance, and it still needs validation through subsequent statements, press conferences, and policy framework reviews.

The key variable markets will face next is whether inflation data can contain this hawkish cue. If subsequent inflation and expectation data ease, the discussion in the June minutes may just be temporary noise. If short-to-medium-term inflation expectations continue to rise, the concerns of a few participants are more likely to become mainstream decisions.

Changes in Warsh's communication style will also impact trading pace. If future statements continue to shorten, with less information from the dot plot and press conferences, the market will have to adapt to a Fed that relies more on data and ad hoc remarks.

This doesn't necessarily mean a persistent shift to a hawkish policy direction but will make rate trades harder to lock in advance. For investors, the focus in the second half of the year may not be on a sudden rate hike at a single meeting but on amplified market reactions to every piece of inflation data and every official statement in a reduced roadmap environment. Rate-cut trades are still viable, but the safety margin no longer appears as generous as before.

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